Key Provisions of the Banking Amendment Bill

Now that the Banking Laws (Amendment) Bill has been passed by the Lok Sabha, it will easily go through the Rajya Sabha also as it has the approval of the main opposition party, the BJP after finance minister P Chidambaram dropped the controversial clause relating to allowing banks to trade in commodity futures and keeping the sector outside the purview of Competition Commission of India.

Some of the salient amendments that were demanded by the RBI (as a prerequisite to issuing new bank licenses) and have been approved are as follows:

(a) RBI to have the power to supersede bank boards for a period not exceeding 12 months. Under the existing Banking Regulations Act, 1949, the RBI has the power to remove a director or any other officers of the banking company. The amendment enhances the power of the RBI to supersede the board of directors of a banking company for a period not exceeding 12 months and appoint an administrator for managing the company during that period;

(b) Raise cap on voting right to 26% in private banks and to 10% in PSU banks from the existing 10% and 1% respectively;

(c) RBI has the option to inspect information and returns from associate enterprises of banking companies;

(d) The Competition Commission of India will approve M&A (mergers and acquisitions) in banks except in the case of banks that are under trouble. In such cases, the RBI will have the final authority, as is the situation now.

Specifically for the PSU banks, the 10-fold increase in voting cap will help drive increased investor interest and hence facilitate raising additional capital. The following is a rough estimate of the capital requirements for the major banks over the next five years assuming BIS-3—in rupees billion. The percentages in parentheses indicate the extent of dilution as a percent of FY12 net worth. SBI – Rs1,000 million (120%); PNB – Rs250 million (90%); BOB – Rs150 million (50%); Axis Bank – Rs200 million (85%); HDFCB – Rs30 million; ICICI Bank– negligible.

Under BIS-3, any shortfall in provisioning or pension liability funding will have to be adjusted against core equity capital, which makes it particularly difficult for the PSU banks. Beyond driving positive expectations long term— near term business concerns like tepid loan growth and the bad loan problems should not be overlooked.

The proposed new license guidelines are summarized below:

(a) Only India resident groups / entities will be allowed to promote a bank. Promoter groups should have a minimum track record of 10 years in successfully running their businesses, which will be verified by the RBI by coordinating with other government agencies. Groups which have a significant exposure to real estate & capital market activity (measured as 10% or more of income or assets or both from these activities in the last three years) will not be eligible for a new license. The new bank will have to be set up through a wholly-owned non-operating holding company (NOHC), which will house the bank and other financial services subsidiaries. All financial services companies belonging to the promoter group will have to be ring-fenced within the NOHC. The NOHC will be registered as a NBFC with the RBI. The NOHC will not be allowed to borrow funds for investing in the companies held by it. The source of promoter’s equity in the NOHC should be transparent and verifiable.

(b) The minimum paid-up capital will be Rs 5 billion. The NOHC should hold a minimum of 40% of the paid-up capital which will have a lock-in period of five years from the date of license. The shareholding in excess of 40% will have to be reduced within two years from the date of license. Even if additional capital is raised within the first five years from the date of licensing, the NOHC will have to maintain its stake at 40%. The NOHC’s stake should be reduced to 20% of the paid-up capital within a period of 10 years and 15% within 12 years from the date of licensing.

(c) The aggregate non-resident stake (FII, FDI and NRI) should not exceed 49% in the first five years of the license date. No non-resident shareholder can hold more than 5% of the paid-up capital. After five years, the aggregate limit for foreign holding will depend on the extant regulations (currently the foreign stake in private sector banks is capped at 74% of paid-up capital).

(d) At least 50% of the board of directors of the NOHC should be independent of the promoter group and ownership and management of the NOHC should be separate. No other financial services entity within the NOHC can engage in activities that can be done by the bank. The NOHC cannot set up a new financial services entity for at least three years from the date of licensing of the bank.

(e) Shareholding greater than 5% by individuals or groups will be possible only with the prior approval of the RBI and the stake of any single entity or group of related entities will be capped at 10%.

(f) The exposure of the bank to any single promoter group company should be capped at 10% and the aggregate exposure to all promoter group companies should not exceed 20% (of the paid-up capital and reserves). All exposures to promoter group companies should be approved by the bank’s board. The RBI will have the ultimate authority on whether a particular company belongs to the promoter group or not.

(g) The bank will have to list on a stock exchange within two years of obtaining a license. It should maintain a minimum capital adequacy of 12% for a minimum period of three years after starting operations.

(h) The bank will have to open at least 25% of its branches in unbanked rural areas.

(i)  On the issue of conversion of a NBFC (non-banking finance company) into a bank, the RBI has discussed two options: Promote a new bank if some or all of the activities of the NBFC are not permitted for a bank. In this case, the NBFC will have to transfer all other activities that are permitted for a bank. The NBFC can convert itself into a bank, if all its current activities are permitted for a bank. Under the two options, a NOHC will have to be set up anyway. The existing branches of the NBFC can be converted into bank branches only in tier 3-6 centres. In Tier-1 and  Tier-2 centres, prior approval of the RBI is required for converting the existing NBFC branches into bank branches.

When the bill becomes law, which is a formality now, what are its benefits to the ordinary banking public?

More powers to the Reserve Bank of India

The main purpose of this bill is to strengthen the hands of the Reserve Bank of India (RBI) with powers to supersede the entire boards of the recalcitrant banks which fail to comply with the directions of RBI. At present the RBI has powers only to remove a director or officers of a banking company, but not the full board. This amendment gives powers to the RBI to supersede the entire board in public interest and appoint an administrator to run the bank for a period not exceeding 12 months.

The amendment also gives powers to the central bank to call for information and returns from the associate and group companies of the banking companies and to inspect them, if necessary. These powers will come handy if and when the RBI proposes to grant licenses to industrial houses for setting up new banks, which is on the anvil now. The bill also substantially increases the penalties and fines for some of the violations of the Banking Regulation Act and the rules framed there under. These powers are expected to create an environment for better compliance of regulations by banks, ultimately benefiting the banking public and the economy of the country.

The bill paves the way for new banking licenses

The central government has been persuading the RBI to issue new banking licenses for expanding the banking network, mainly for financial inclusion and expansion of banking facilities to unbanked areas in the country. The RBI has been insisting on getting the additional powers mentioned above, so as to ensure a healthy growth of the banking institutions. Now that the bill has been cleared, the RBI may consider permitting new banks to be set up in the private sector, which in turn will create more competition among banks in the country. More the competition, better it is for bank customers, as it will provide more choices to the banking public and might bring down bank charges to some extent. The RBI should, however, ensure that new banking licenses are given only to the deserving applicants, which have a record of total dedication to provide transparent, committed and superior customer service and not to fly-by-night operators, who wish to make quick money by floating a bank and then resort to all sorts of manipulations at the cost of the banking public.

The bill raises the voting rights in banks

At present there is a cap of 1% on voting rights to private investors in public sector banks. This in effect means that the private investors had no meaningful role to play in the functioning of the bank even as a shareholder. This cap is now proposed to be raised to 10%, paving the way for more investment in public sector banks by the foreign institutional investors, who have been sitting on the sidelines so far in respect of investing in these banks.

Similarly, there is a cap of 10% on voting rights to investors in private sector banks, which is now proposed to be raised to 26% through this bill. This in effect means that the promoters and their group can have voting powers up to 26%, which, in fact, is a double edged sword. On the one hand, it gives the promoters a better say in the management of the bank and coupled with the higher commitment of the promoters it could be a spring board for the faster growth of the bank.  On the other hand, it can influence the decisions of the management, which may or may not be in the best interest of the bank and its other stakeholders. The RBI should, therefore, keep a close watch on the functioning of all private banks, so that these additional voting rights serve the interest of all stakeholders equitably.

The bill provides for issue of bonus shares by public sector banks

So far only private sector banks, particularly old generation banks have been giving away free shares to their shareholders as bonus shares, though all private sector banks are allowed to issue bonus shares according to the Companies Act, under which they are incorporated. But public sector banks, though holding huge reserves, have not issued any bonus shares so far. This is mainly because there were no provisions to issue bonus shares in the enactments through which they were nationalized. The present bill, therefore, provides for issue of bonus and rights shares, including splitting of shares into lower denomination, by the public sector banks, which is good news for banks’ shareholders.

The biggest bank in the country, State Bank of India (SBI) has the largest free reserves Rs83,280 crore against its paid up capital of Rs.671 crore. These huge reserves, nearly 125 times its paid up capital, are by far the largest reserves held by any bank in our country and if it decides to issue bonus shares, it will surely cheer the stock market, which has been giving a low valuation for all public sector banks on account of investor-unfriendly image of these banks. Now that the decks have been cleared for them to issue bonus shares, the government should encourage all those banks having substantial reserves to issue bonus shares to their shareholders, as the government will be the biggest beneficiary of such a move because of its majority holding in all the public sector banks. This step will also create a conducive environment for banks to raise fresh capital more easily from the market and thus help in meeting their capital adequacy requirements prescribed under Basel III norms.

Why are bank unions against this bill?

If these are the benefits of this Banking Amendment Bill to the banking public, why are bank unions against this bill?

The left parties had opposed the bill and voted against it in the Lok Sabha. The banks unions are also against this bill as they feel that these amendments will dilute the interest of the public sector banks. Besides, these amendments will facilitate corporate entry into banking, which they feel is not desirable, as the public money deposited in these banks can be misused for the benefit of few corporate bigwigs and not for the benefit of the general public. They are also opposed to the increase in voting rights to shareholders, as it may dilute the powers of the government in public sector banks.

Articles referred to:
http://moneylife.in/article/key-provisions-of-the-banking-amendment-bill/30306.html
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